Short Term Oversupply, Permian in the Pole Position

Oil & Gas 360® interviewed Stephens Inc. Senior Vice President E&P Research, Will Green, and Vice President E&P Research, Ben Wyatt, this week, in pursuit of their view of the current commodities cycle and related effect on the E&P space, looking at 2015 and beyond.

Will Green, Stephens E&P Analyst

Green joined Stephens in 2007 as a research associate in the industrials group and now leads the Stephens E&P team. Wyatt joined Stephens in 2010 as a research associate to help develop the E&P practice. Today Stephens’ Fort Worth research team covers 30 companies in the E&P sector for the global independent financial services company.

Ben Wyatt, Stephens E&P Analyst

The firm’s history goes all the way back to the Great Depression years. The firm was founded in Little Rock, Arkansas, 82 years ago by Witt Stephens for the purpose of trading Arkansas highway bonds. After four decades of financial involvement with production companies, natural gas companies and telecom, in 1970 the firm took Arkansas discount retailer “Walton’s 5 & 10” public, and in 1971 it co-underwrote municipal bonds to finance the Louisiana Superdome. For the next two decades Stephens invested in insurance, media, and financial companies and in 1989 it became a member of the New York Stock Exchange. Today it is involved in investment banking, capital formation, capital management, private equity, private wealth management and institutional sales and trading through its 24 offices in the U.S. and England.

Oil and Gas 360® caught up with Will Green and Ben Wyatt by telephone at Stephens’ Fort Worth offices on Monday:

OAG360: How is the current oil price drop different from other cycles?

WILL GREEN: Today’s cycle is driven by supply/demand. This time the industry has to own up to the supply issue. The industry has to actively look at itself in the mirror in terms of admitting that it was involved in oversupplying the situation. The companies we cover are doing what they believe is the right thing for investors—growing production, growing revenues. But it’s prudent now to cut back to where hedges support you a little bit. It’s a hard decision, but they realize what needs to be shuttered and cut back. The prudent decision is definitely to cut back.

OAG360: What’s going to cause a bounce, what’s going to happen that shows the bottom?

WILL GREEN: I think one thing is this—actually getting some support from the demand side. It’s a good step in the right direction to see a reduction in production [and let some of the oversupply work itself out], but if we see continued economic strength in China, if China or other emerging markets blossom and demand remains strong, we should start to find support.

OAG360: What is Stephens’ deck calling for oil to be in 2015?

WILL GREEN: We just updated our deck today. We’re calling for WTI to average $53.75 in 2015, $67.50 in 2016 and $80 in 2017 and beyond. It’s a tad bit higher than strip. We are long term bulls on oil & gas: we believe this is a short term oversupply that fixes itself relatively quickly.

OAG360: If oil stays at today’s levels for a good while, what is going to happen to the midstream sector?

BEN WYATT: You’ll clearly see some slowdown. The midstream companies need the E&Ps to commit to capacity. They’re not going to build a spec pipeline, for example, without strong long term commitments from the E&Ps, and in this price environment it becomes more challenging. So it clearly dominoes.

OAG360: Which basins have the best upside for E&Ps?

WILL GREEN: From a wellhead economics standpoint, I’ll put the Permian in the pole position, the Eagle Ford second and the Bakken falls behind those. From an equity standpoint, the Bakken has sold off harder, so I would look at the Bakken as offering better values today. It was driven by consensus thought. The consensus thought was to shed the Bakken because of its higher differentials, so those operators have been sold way down, so there’s a lot of value there in the equities. But if you look purely at the wellhead economics in the core of the Permian, it can stand up to virtually anything in North America.

OAG360: Where does OPEC fit into the equation – how low can they let this go?

WILL GREEN: I think this downturn is really going to test their resolve. There are some troubled OPEC nations who are definitely struggling through this. It’s the Saudis’ M.O. not to cut production, and if their projects are economic they should keep producing, just like any other country or company would. If we’re still sitting here [at these prices] the next time OPEC meets, and Venezuela or some other OPEC nations can’t make their quota and if Saudi can’t take over a burden of another 1-2 million barrels a day, then you’ll see some price movement. If the planet needs 90 million barrels of oil per day, it’s the last barrel needed that sets the price. Ultimately if we have 90 MMBOPD that can be produced at $45 per barrel, then that’s the price. For now, investors are waiting until there’s more clarity around the demand side.

OAG360: What will M&A look like in 2015?

WILL GREEN: The balance sheets are center stage for this group [E&P]. On one hand you might have a more motivated seller because of their debt burden, but they’re not willing to sell unless they’re forced. From a buyer’s perspective, buyers are trying to maintain their balance sheets. If prices and activity get back on track later in the year, you could see offers, but right now there are dis-incentivized buyers and sellers.

BEN WYATT: I would add that a lot of these guys are well hedged, so you do have some time—maybe six months—but as we get closer to 2016 you might see some sellers who are more open to the idea.

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